Investors have become “too bearish” on the outlook for London offices, according to Jefferies equity analysts Mike Prew and Andrew Gill, who have highlighted a shortage of “Covid-19-durable space” and reiterated buy recommendations on listed landlords Landsec, British Land, Derwent London and Great Portland Estates.
“Despite the working from home phenomenon and falling London office rents, the investment market has seen £3bn of £6bn for sale trade at 4% cap rates and within 5% of pre-Covid-19 valuations,” Prew and Gill wrote in a new note, adding that of a 12m sq ft London office development pipeline, 60% is committed, which should encourage “brisk preletting activity”.
“Modern 21st century offices we classify as Covid-19-durable – smart elevators, high-filtration aircon – are only 40% of inventory,” they said. “The WFH shrinkage is probably 5%-12% of London headcount, and sublet ‘grey’ space is small grade-B needing expensive retrofitting. It looks to be heading for distress but is raw material for REITs.”
Prew and Gill acknowledged that their bullish call on offices in recent months has surprised some, but said that the impact of lockdown-driven working from home has been overblown: “The working from home phenomenon, we think, is limited and temporary at its current magnitude – but we have had most pushback from senior figures on Zoom calls from their man caves in Holland Park town houses.”
The grey space market has historically been exacerbated by a downturn, the Jefferies duo wrote, but for now Covid-19 “isn’t significantly impacting the grey market, which is relatively flat in the West End but has picked up after the UK’s nationwide lockdown ended”.
The analysts expect that a “quick medical solution” to the coronavirus would “soften the correction in B-grade London offices but not remove it”.
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